Watchdogs for Your New Hotel: Why a Hotel Owner Needs a Friend (or Friends) on Top of Managers and F

May 15, 2012 | Download PDF

New owners often come into the hospitality industry from a background in real estate. Buying a hotel seems like a logical next step for those who own other forms of commercial property, such as office buildings and retail locations, and who are looking to expand their portfolios. But owning a hotel isn't like owning other types of property, even those that, like hotels, involve third-party management. Hotel ownership carries its own terms and conditions, its own rules of engagement, and its own particular dangers that can trap – and cost – the unwary.

Introduction

Owning a Hotel: A Real Estate Investment Like No Other

Hotel Operations Involve Many Players – And Their Interests Don't Always Align

Only Your Own Team Can Look After Your Interests

As a Hotel Owner, You Depend on Your Management Company – But It Has Its Own Incentives

A Personal Story: How a Management Company Went its Own Way

Understanding Management Company Players Helps Explain the Conflicts

The Franchisor Gives You Your Brand – and a New Set of Conflicts to Worry About

The Answer: Bring Your Own Professionals to the Party

Introduction

Congratulations Mr. Entrepreneur. You have just purchased a new business and you have a great vision for how you’ll position it in the market place and increase its cash flow.

Oh, by the way, for this business, you’ll have to hire another company to manage it for you and carry out your vision.Don’t worry – I am sure they will do an excellent job. They’re experienced. After all, they manage many of your competitors – even in the same market!

And, oh, on another note, you’ll have a great opportunity to engage with yet another company that will provide you with its brand. This will be a wonderful experience for you, since the company also provides services and directs sales to many of your competitors. They will even relieve you of many of the decisions you would otherwise have to make yourself about what your product looks like and the services it offers.

Can you imagine Larry Ellison buying a technology company and ceding all of this control to third parties?How about Bill Gates or Sam Walton? I think not. Yet in our hotel industry, it is standard protocol.

New owners often come into the hospitality industry from a background in real estate. Buying a hotel seems like a logical next step for those who own other forms of commercial property, such as office buildings and retail locations, and who are looking to expand their portfolios. But owning a hotel isn’t like owning other types of property, even those that, like hotels, involve third-party management. Hotel ownership carries its own terms and conditions, its own rules of engagement, and its own particular dangers that can trap – and cost – the unwary.

Owning a Hotel: A Real Estate Investment Like No Other

Unlike a generic real estate entity, where third-party management is also the norm, a hotel is an operating entity with critical strategic and operational decisions to be made daily, sometimes even hourly. The third-party manager will be making those decisions in near real-time, often before you can intervene. This is unlike the third-party management of a mall, an office building or a residential property, where the decisions are made at longer intervals and there is more opportunity for you to engage.

Hotel Operations Involve Many Players – And Their Interests Don't Always Align

Then, add to the mix the potential for inherent conflicts of interest. Because of the specialized nature of hotel management, it’s not unusual to find a management company operating multiple hotels for several different brands in a given area. In other words, your management company may be operating your competitors’ properties as well. There are other conflicts, some obvious, some less so. To make matters even more complicated, factor in the participation of the franchising entity – the Marriott or Hilton that provides you with your brand and with other forms of sales and operational support. Here, too, there is the potential for conflicting incentives and for actual, flat-out conflict. This is true whether the franchising entity is also the manager, or not. It is true especially in situations where the franchising entity operates a portfolio of several competitive brands.

Only Your Own Team Can Look After Your Interests

What is a hotel owner to do? Many hotel investors and entrepreneurs form their own management companies when they reach a certain critical mass, but many do not. For those who do not, the simple answer is: Be your own advocate. Have your own people, your own asset managers who are directly loyal to you. Your team should include a full range of business support capabilities, including managers, attorneys and the accounting firm, as well as hospitality industry specialists such as food and beverage consultants and hidden shoppers. Don’t make the mistake of saying, “I’m paying a fee to the management company and they’ll take care of it for me. “Question everything that comes from them. Remember that third parties have different motives and their interests may not be yours. That goes for the management company and the franchisor as well.

As a Hotel Owner, You Depend on Your Management Company – But It Has Its Own Incentives

It goes without saying that the overwhelming majority of owner/manager/franchise relationships work just fine for all involved. But I think it’s healthy for all involved to be aware of the inherent conflicts, be alert to the day-to-day issues that may result and be mindful of each other’s rights and obligations. Without this sort of vigilance, any party can get hurt.

Let’s think about some of the conflicts that can occur. First, there are disputes between the owner and the management company. The management company is a fiduciary for the owner, and needs to represent, and act on, the owner’s interests. But that doesn’t always happen. The management company has its own financial needs and business incentives, and when push comes to shove, it may put its own interests ahead of those of the owners.

A Personal Story: How a Management Company Went its Own Way

Here’s an example from my own professional history. I was involved in this particular horror story early in my years as President and CEO of the Merv Griffin Group of Companies. In this instance, we had gotten into a dispute with the hotel management company over (what else?) fees. I was on property on a Friday afternoon and the local controller – a management company employee, of course – told me that he was under pressure from his superiors to pay invoices for unpaid fees and charges that we were disputing. I informed the controller that the hotel funds were neither his nor the management company’s. Rather, both of them – the individual and his employer – were fiduciaries for Merv Griffin, the owner. As such, they were under a moral and legal obligation to follow our wishes concerning the use of funds.

Upon the conclusion of that conversation, I left for the airport and returned home. As you may already have guessed, when I arrived at my office on Monday, I received bank reports that indicated that the controller had released our funds to the management company. His superiors had years remaining on their contract. As a result, they believed they had ironclad control over everything related to the hotel and its finances.

Merv and I – along with our attorneys – were livid. Eventually, the management company’s CEO conceded that his company was wrong and offered to cancel the contract if we wished. We were happy to accept. And then we took the next logical step. Although we owned only a few hotels at that time, the wholly-owned Grifftel Management Company was born to manage all of our future acquisitions.

Of course, with Merv’s backing, my company had enough resources to build and acquire the talent and infrastructure that is needed to start a management company from scratch. Most owners are not so fortunate.

Understanding Management Company Players Helps Explain the Conflicts

What are the real origins of this kind of conflict? Imagine a flagged hotel property owned by an entrepreneur whose portfolio includes a handful of properties. The hotel is managed by a mid-sized third-party management company. The present and future of that hotel is really not in the hands of the owner. Instead, it’s in the hands of key on-site employees such as the general manager, sales manager and others.

Who are these managers? What makes them tick? The general manager probably came up through the ranks of the management company. He probably is in his current position because someone senior in the company mentored his progress. As a result, he is loyal to the management company and its executives. He probably sees himself moving into their executive suite by becoming a regional executive and rising from there. Chances are he has no future with your company. Yet, Mr. Owner, he controls the success or failure of your hotel.

Similarly, the sales manager works very closely with the franchise company, and he probably sees his future with one of those entities rather than yours. The sales manager is in a position to deal with the franchise company on a daily basis and make decisions about what corporate programs to participate in. Is the sales manager looking out for the owner’s interest, or is he more interested in buttering up his future boss as she rolls out a new pet program?

The Franchisor Gives You Your Brand – and a New Set of Conflicts to Worry About

As mentioned, the owner-franchisor relationship has the potential for conflict as well. Hilton or Marriott may have a vested interest in making sure the hotel runs well. But at the end of the day, they don’t have an ownership stake in the hotel. They provide a brand, a reservation system and operating support. Sometimes they even provide their own management company, which, speaking of conflicts, you as the owner are compelled to use (in other cases they allow you to use your own management company if they approve).

But they don’t have an owner’s incentives. Often their motives focus on the guest experience, and how it leads to favorable ratings on websites like Trip Advisor. They want the guest experience to be as pleasurable as possible. You as the owner want it to be as cost-effective as possible. Those are divergent interests. As the owner, you want to maximize cash flow, keep your investors happy and get a good internal rate of return. Hilton might say, you need an extra maid and caviar service, or might ask why caviar is not on the menu. Those costly items might keep a guest coming back to the Hilton brand across the country – but not necessarily to your particular hotel.

The Answer: Bring Your Own Professionals to the Party

Now of course, theoretically, everyone’s interests are aligned. No hotel employee, management company or franchisor will succeed or maintain a good reputation without maximizing hotel performance and meeting or exceeding the owner’s goals. And in fact, 99.9 percent of owner/manager/franchisor arrangements succeed. Furthermore, the experience, expertise and services provided by the manager and franchisor cannot be matched except by the largest owners.

Nevertheless, what’s an owner to do to manage his or her own interests against inherent conflicts? The answer, again, is that owners must be aware and vigilant about the conflicts and aggressively asset-manage their properties, either with their own people or with experts who are hired to represent, purely and simply, the owner’s interests.

I firmly believe that in order to maximize performance of their property, an owner must surround him- or herself with people who have industry expertise, and whose only loyalty is to the owner. Executives with hospitality experience, asset managers and consultants with industry expertise can all help to keep honest people honest and keep everyone accountable to the owner.

An accounting firm (one with industry expertise and a business perspective) is not the only player on the owner’s team, but it should be high on the list. Given the potential, as we’ve seen, for third-party fiduciaries to lose sight of their duties and move funds in unexpected ways, you need to have a financial expert at your side. Keeping track of your operating results and comparing them to industry standards is one clear, effective way to make sure that your people are doing what they need to do, not doing what they shouldn’t be doing, and on a day-to-day basis, looking after your interests. Have faith in your management company and franchisor, but with the help of your own team of professionals, you can follow Ronald Reagan’s advice: “Trust, but verify.” That approach will increase your odds of success as you face the challenges of ownership in the hospitality industry.


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